Soundwave Festival Pty Limited v Altered State

Federal Court of Australia|2014-05-30|Before: Motor Group P, Wigney J

REASONS FOR JUDGMENT 1 On 26 June 2013 Soundwave Festival Pty Limited (Soundwave) served on Altered State (W.A.) Pty Limited (Altered State) a statutory demand under s 459E of the Corporations Act 2001 (Cth) (the Act). The statutory demand related to a debt of $340,690.46 that Soundwave claimed it was owed by Altered State. Altered State did not comply with the statutory demand. Nor did it apply to set it aside. 2 Soundwave now applies under s 459P of the Act for an order that Altered State be wound up in insolvency. That application is opposed. Altered State's grounds of opposition are twofold: first, it is contended that there exists a genuine dispute between Soundwave and Altered State about the existence of the debt in the statutory demand; and second, it is contended that Altered State is solvent. 3 To rely on the first ground, Altered State requires the leave of the Court: s 459S of the Act. Altered State applied for but was refused leave on 12 May 2014: Soundwave Festival Pty Limited v Altered State (W.A.) Pty Limited (No 1) [2014] FCA 466. It follows that Altered State cannot raise the alleged dispute concerning the existence of the debt in opposition to this application. 4 In relation to the second ground, the Court must presume that Altered State is insolvent because it failed to comply with the statutory demand: s 459C(1)(a) and (2)(a) of the Act. The issue on this application is whether Altered State has rebutted that presumption.

Evidence of solvency 7 It is perhaps pertinent to first identify the evidence that Altered State did not adduce before turning to the evidence that it did. Altered State has not tendered any financial statements or accounting records as evidence of its financial position. There is no evidence from an accountant, internal or external, concerning the compilation of a balance sheet or profit and loss statement based on the company's books and records. There is no documentary evidence of the assets and liabilities of the company or its cash flow. Indeed, no books or records of the company of any sort were tendered. 8 The complete absence of any documentary evidence of the financial position of the company, including documents that evidence its assets, liabilities, revenue and expenses is, to say the least, puzzling. It is largely unexplained. Altered State was served with a notice requiring it to produce all documents evidencing its financial position, including financial statements, profit and loss accounts, balance sheets, asset registers, depreciation schedules and income tax returns. No documents were produced. No explanation was given by Altered State for its inability to produce any documents falling within these categories. The available inference is that no such documents exist. The notice also required Altered State to produce bank statements in respect of any bank account held by it. No statements dated later than 30 June 2013 were produced. 9 The evidence relied on by Altered State is the evidence of its manager, Mr Christopher Knight, and its sole director and shareholder, Mr Kenneth Knight. 10 The evidence of Mr Christopher Knight may be summarised as follows: He is the manager of Altered State and has had the day to day management of the business since about 2000. Altered State is a private company with a "strong on-going business and is fully supported by" him and his brother Kenneth. Kenneth Knight is the sole director and shareholder of Altered State. Kenneth has been ill since mid-2013. Altered State has never had an overdraft at the bank. To Mr Knight's knowledge and belief, Altered State "neither owes any other debts has any other liabilities that (sic) that said to be owing in the allegation of [Soundwave]". He and his brother "will support the company and pay any sum required to discharge any obligation found to be justly owing". 11 Mr Kenneth Knight's evidence may be summarised as follows: As at 5 May 2014, Altered State had a credit balance of $42,029.88 in its bank account. A copy of an "internet transaction listing" purporting to evidence this credit balance was tendered. As at the same date, Mr Knight had $238,504.02 in his personal bank account. A copy of an "internet transaction listing" for this account was tendered. Mr Knight asserts that this amount is "available immediately in cash to ensure that [Altered State] is solvent and can pay its debts as and when they fall due". He claims he is "willing and able to make these monies available for that purpose". He owns a house and property at Bayswater, W.A. That property is registered in his name and he is the beneficial owner. He believes that the company has no debts at all other than the "disputed claim". 12 Four points should be made in relation to the evidence of both Christopher and Kenneth Knight to the effect that, to their knowledge and belief, Altered State has no debts other than the debt said to be owing to Soundwave. First, there is no evidence that either witness has examined the books or records of the company. Indeed, there is no evidence that the company has any books or records. This circumstance diminishes such weight as would otherwise be given to this evidence. 13 Second, the transaction listing for the company's bank account casts doubt on the reliability of their belief that the company has no debts. The transaction history shows that over the previous month the company has paid a number of apparent debts, including for wages, American Express and other miscellaneous matters. Some of these debts, for example wages, are likely to be recurring debts and give rise to other obligations (for example superannuation contributions). Given that Altered State supposedly conducts a substantial event promotion business, it is difficult to accept that the company does not incur liabilities from time to time. 14 Third, what is the Court to make of the fact that Altered State was unwilling or unable to produce, in response to the notice to produce, any tax return or assessment? On one view it might be inferred from this that the company has not lodged any returns and might have a contingent tax liability. Neither Christopher nor Kenneth Knight was cross-examined and this matter was not otherwise explored in the evidence. Accordingly, no finding can or is made in relation to this issue. It does demonstrate, however, the real difficulty in relying on mere assertions that the company has no debts. 15 Fourth, to the extent that the witnesses refer to the amount owing to Altered State as a disputed debt, Altered State has been refused leave to rely on any dispute concerning the debt. This evidence was accordingly admitted on the limited basis that it puts in context the assertions by both witnesses that the company otherwise owed no debts. For the purposes of the proceedings it cannot be inferred or concluded that the debt is in fact disputed, let alone not owing: cf. Expile Pty Ltd v Jabb's Excavations Pty Limited (2003) 45 ACSR 711; [2003] NSWCA 163 (Expile) at [10]. 16 Having regard to each of these matters, and more significantly the complete absence of any documentary evidence concerning the financial position of Altered State, little weight can be given to mere assertions that the company has no other debts. The Court is entitled to approach such self-serving and uncorroborated assertions with considerable scepticism. 17 Altered State sought to rely on evidence from another third party who also claimed that he is willing to lend funds to the company to ensure that it is able to pay its debts. This evidence was objected to and not admitted. Not only was the evidence served very late, but it was also largely in an inadmissible form. Altered State also sought to rely on evidence that $341,000 has been paid into a controlled monies account in the company's name held by Altered State's solicitors. This evidence was also objected to and not admitted. It was also served late, but there were more fundamental problems with it. There was, for example, no evidence concerning the source or ownership of the funds or the terms upon which it was paid into and held in the trust account. In the absence of any evidence of these matters, the existence of funds held in trust was irrelevant to the question of the company's solvency. 18 Finally, it should also be noted that many parts of the evidence of Christopher Knight and, to a lesser extent, Kenneth Knight, were objected to and not admitted in evidence. The excluded evidence mostly comprised of nothing more than bald unverified assertions that the company was solvent and inadmissible statements (unsupported by any documentary evidence) about the value and ownership of certain property, including units in a discretionary trust. Even if this evidence was admitted, it would not have assisted in any material way in proving the solvency of Altered State.

Relevant principles 19 In Ace Contractors and Staff Pty Ltd v Westgarth Development Pty Ltd [1999] FCA 728 Weinberg J outlined the relevant principles in relation to the evidence ordinarily required to rebut the presumption of insolvency in the followings terms (at [44]): The authorities which govern the operation of s 459G of the Corporations Law seem to me to establish the following propositions: The respondent is presumed to be insolvent and as such bears the onus of proving its solvency: s 459C(2) and (3); Elite Motor Campers Australia v Leisureport Pty Ltd (1996) 22 ACSR 235 per Spender J; Commissioner of Taxation v Simionato Holdings Pty Ltd. (1997) 15 ACLC 477 per Mansfield J. In order to discharge that onus the Court should ordinarily be presented with the "fullest and best" evidence of the financial position of the respondent: Commonwealth Bank of Australia v Begonia (1993) 11 ACLC 1075 at 1081 per Hayne J. Unaudited accounts and unverified claims of ownership or valuation are not ordinarily probative of solvency. Nor are bald assertions of solvency arising from a general review of the accounts, even if made by qualified accountants who have detailed knowledge of how those accounts were prepared: Simionato Holdings Pty Ltd (supra); Re Citic Commodity Trading Pty Ltd v JBL Enterprises (WA) Pty Ltd [1998] FCA 232 per Heerey J; Leslie v Howship Holdings Pty Ltd (1997) 15 ACLC 459 at 463 per Sackville J. There is a distinction between solvency and a surplus of assets. A company may be at the same time insolvent and wealthy. The nature of a company's assets, and its ability to convert those assets into cash within a relatively short time, at least to the extent of meeting all its debts as and when they fall due, must be considered in determining solvency: Rees v Bank of New South Wales [1964] HCA 47; (1964) 111 CLR 210; Re Tweeds Garages Ltd [1962] Ch 406 at 410 per Plowman J; Simionato Holdings Pty Ltd (supra); Melbase Corporation Pty Ltd v Segenhoe Ltd [1995] FCA 1225; (1995) 13 ACLC 823 at 832 per Lindgren J; Leslie v Howship Holdings Pty Ltd (supra) at 465-466. The adoption of a cash flow test for solvency does not mean that the extent of the company's assets is irrelevant to the inquiry. The credit resources available to the company must also be taken into account: Sandell v Porter [1966] HCA 28; (1966) 115 CLR 666 at 671 per Barwick CJ (with whom McTiernan and Windeyer JJ agreed); Leslie v Howship Holdings Pty Ltd (supra) at 466; Taylor v ANZ Banking Group Ltd (1988) 6 ACLC 808 at 812 per McGarvie J. The question of solvency must be assessed at the date of the hearing. However, this does not mean that future events are to be ignored: Leslie v Howship Holdings Pty Ltd (supra) at 466-467. It is no abuse of process for an applicant to seek to wind up a company presumed to be insolvent by reason of its failure to comply with a statutory demand merely because that company contends that it is solvent, or because there may be alternative means available to the applicant to vindicate its rights: Elite Motor Campers Australia v Leisureport Pty Ltd (supra). 20 This passage has been approved and followed in many decisions of this Court and State Supreme Courts in the context of winding up applications. In Expile, the New South Wales Court of Appeal (at [16] per Santow JA, Meagher and Handley JJA agreeing) approved the observations of Weinberg J and stressed the importance of proper verification of a company's assets and liabilities. Santow JA expressed his conclusion in relation to the evidence of solvency in that case in the following terms (at [30]): Summing up: the respondent's failure to answer the notice to produce, and to comply with the judge's direction for production, coupled with the constraints on Mr Billingham contacting third party creditors and leasing companies, judged against the paucity of documentation as to ownership of plant and equipment, plus the deficiencies of the accounts and the lack of hard evidence of realistic borrowing capacity to fund repayment of the true short-term liabilities, render entirely apposite the observation of Spigelman CJ in Switz Pty Ltd v Glowbind Pty Ltd (2000) 48 NSWLR 661 at 674, [55]; 155 FLR 282 at 294; 33 ACSR 723 at 735: The process of proving solvency is not some kind of forensic game. Solvency is a matter peculiarly within the knowledge of the company. The primary source of information on the solvency of the company must be the company itself. The respondent company failed to provide and verify the information necessary to prove its solvency. 21 It is apparent from the evidence adduced by Altered State that it relies heavily on the assertions by Christopher and Kenneth Knight that they are prepared to support the company and make funds available to ensure that it is able to pay its debts. 22 In some circumstances, the fact that directors or officers of a company are willing to provide funds to the company to enable it to pay its debts may be relevant to the question of solvency. 23 Subsection 95A(1) of the Act provides that a person is solvent if, and only if, the person is able to pay all the person's debts as and when they become due and payable. Subsection 95A(2) provides (helpfully) that a person who is not solvent is insolvent. In Lewis v Doran (2004) 208 ALR 385; [2004] NSWSC 608 (Lewis v Doran) at [116], Palmer J found that in addressing the test in s 95A of the Act, the Court is required to decide whether the company is able, as at the alleged date of insolvency, to pay all its debts as they become payable by reference to the "commercial realities". His Honour then said (at [116]): If the court is satisfied that as matter of commercial reality the company has a resource available to pay all its debts as they become payable then it will not matter that the resource is an unsecured borrowing or a voluntary extension of credit by another party. 24 Palmer J's decision was affirmed on appeal: (2005) 219 ALR 555. Later cases have approved this statement of principle: International Cat Manufacturing (in liq) v Rodrick (2013) 97 ACSR 200; [2013] QCA 372 at [100]-[103]; Mulherin v Bank of Western Australia Ltd; McCann v Bank of Western Australia Ltd [2006] QCA 175 at [111]-[115]; Williams (as liquidator of Scholz Motor Group P/L (in liq)) v Scholz [2008] QCA 94 at [40]-[41]; Australian Securities and Investment Commission v Edwards (2005) 54 ACSR 583; [2005] NSWSC 831 at [99] (ASIC v Edwards); Coats Hire Operations Pty Limited v D-Link Homes Pty Limited [2011] NSWSC 1279 at [73]-[76]. 25 It is clear, however, that if reliance is to be placed upon the provision of funds by a third party, there must be some acceptable evidence that, as a matter of commercial reality, the company has available to it a resource in the form of unsecured borrowing. The Court has reason to be sceptical of bare assertions that someone is prepared to advance unsecured funds to a company to enable it to pay its debts. In Lewis v Doran, Palmer J said (at [113]): [W]here prospective insolvency is in issue the court, as a general rule, would be sceptical of an assertion that a third party is willing to advance funds unsecured on such terms as would not, in any event, bring about insolvency. Such willingness on the part of a third party would have to be cogently demonstrated, if not as a matter of legal obligation, than as a matter of commercial reality. 26 Proof of borrowing capacity may also require some evidence capable of verifying the assets and liabilities of the company. In Expile, the Court of Appeal overturned the finding of the trial judge that a company was solvent based on the fact that the company had sufficient borrowing capacity to meet current liabilities. Santow JA said (at [15]): The basis for so concluding that there was sufficient borrowing capacity to meet current liabilities depends fundamentally on the reliability of any verification of liabilities and assets of the respondent. The liabilities and assets of the respondent, and its borrowing capacity for purposes of meeting debts payable in the short term, fell to be established, not from audited accounts, nor in the case of plant and equipment from properly established ownership, but from a variety of more informal and in some cases self-interested sources. 27 Attention too must be given to the terms upon which any such loans may be granted as a matter of commercial reality. This point was made clear by Barrett J in ASIC v Edwards where his Honour said (at [99]): I accept that funds which, on a realistic commercial assessment, are capable of being raised from outside sources are relevant to the question whether a company is solvent. But the availability of such funds in the form of a loan will not enhance solvency (or have the potential to avoid a finding of insolvency) unless the loan terms are such as to exclude the loan liability from consideration in its own right as part of the debts due or near due. In other words, availability of loan funds for a very short term or payable on demand, as a source from which debts overdue may be paid, does not enhance solvency: it merely substitutes one form of immediate (or near immediate) obligation for another. There is also the point (emphasised by the Court of Appeal in Expile Pty Ltd v Jabb's Excavations Pty Ltd (2003) 45 ACSR 711) that the capacity to raise funds from external sources must be judged in a practical and businesslike way by reference to the commercial realities of the case, not by way of some theoretical textbook exercise. Possibilities are not enough. Genuine and realistic availability, as a matter of commercial reality, must be seen.

Has Altered State rebutted the presumption of insolvency? 28 The evidence relied on by Altered State falls well short of the "fullest and best" evidence necessary to rebut the presumption of insolvency. 29 As already indicated, there was no evidence which was capable of verifying Altered State's assets and liabilities. The evidence relied on by Altered State rose no higher than bald, self-interested assertions by the manager and director of the company. The complete absence of any documentary evidence capable of verifying the financial position of the company was left unexplained. For the reasons already given, the self-serving and unverified assertions by the manager and director that they believe the company had no debts other than the "disputed" debt owing to Soundwave can be given no weight. 30 The self-serving evidence of Christopher and Kenneth Knight that they are prepared to support the company and provide funds to enable the company to meet its debts must also be viewed with considerable scepticism. That is particularly so given the complete absence of any acceptable verification of the company's assets and liabilities and the complete absence of any evidence of the terms upon which they would be prepared to make the funds available. There is no evidence that either had ever provided or loaned funds to the company before. There is also no acceptable evidence of the ability of Christopher Knight to provide any, or any substantial funds, to the company. The evidence of Kenneth Knight's financial position and ability to provide funds to the company is also far from satisfactory. In all the circumstances it cannot safely be concluded that, as a matter of commercial reality, Altered State has available to it a resource, in the form of unsecured loans from third parties, to enable it to pay its debts. Whilst this might be a possibility, the state of the evidence does not permit a conclusion of genuine and realistic availability. 31 The fundamental problem for Altered State is the complete absence of any business, accounting or other documentary evidence capable of verifying the company's financial position. It is difficult to see how the presumption of solvency could ever be rebutted in such circumstances, despite self-serving claims by officers or directors that they are prepared to support the company. 32 In all the circumstances, Altered State has failed to discharge its burden of rebutting the presumption of insolvency. 33 Altered State takes no issue with any of the other formal matters of proof relied on by Soundwave in support of its application. Accordingly, the Court will make the final orders:

The defendant, Altered State (W.A.) Pty Limited (the corporation) is wound up.
Cameron Shaw of Hall Chadwick, an official liquidator be appointed the liquidator of the corporation.
The plaintiff's cost be taxed and reimbursed out of the property of the corporation in accordance with s 466(2) of the Corporations Act 2001. I certify that the preceding thirty-three (33) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Wigney.

Corporations Act 2011(Cth)

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